4 ms·

In the abstract, you're not wrong that the managers of a business have a lot of freedom to tweak debt/equity ratio to fund their operations and capex. But from

In the abstract, you're not wrong that the managers of a business have a lot of freedom to tweak debt/equity ratio to fund their operations and capex. But from the perspective of an investor, debt and equity are as different as night and day. If nobody wants your equity then you don't have a lot of room to adjust the ratio. High debt means high leverage. Low debt means low leverage. Whatever you are calling "high equity" is just low debt, because (as you said yourself) they have a direct inverse relationship. Unless I'm missing something here...

eru 4y ago
Well, as an investor I don't need to care too much about the debt to equity the company either. In the abstract, I can just buy all the liabilities of the company in question and adjust the leverage of my portfolio by mixing in risk-free assets or borrowing myself. > If nobody wants your equity then you don't have a lot of room to adjust the ratio. If literally nobody wants your equity, its price would be 0. I assume you are talking about your equity having a low price instead? You can still take on debt to buy back shares (or pay a dividend) to lower your outstanding equity. Or you can issue shares to pay back debt. Or you can use retain profits to pay back debt, lower both the absolute amount of equity and debt. All of these moves are possible when your share price is low.
- jkhdigital 4y ago
  Sure. There is indeed quite a bit of flexibility in adjusting the leverage of a business, assuming that it is still a going concern. So was your comment about "high equity" just about leverage? Like, everyone worries about high leverage but no one seems to care about low leverage (which could be an inefficient capital allocation)? It's just an unorthodox way to put it, that phrase
  - eru 4y ago
    People seem to be worried about the total amount of debt. At most they compare debt to GDP. You almost never hear these panic pieces talk about debt vs equity. Btw, if people are worried about debt, the first thing we should do is put equity financing on the same footing as debt financing. As it stands, companies largely service their debt with pre-tax money but pay for their cost of equity with post-tax money.

eru 4y ago

Well, as an investor I don't need to care too much about the debt to equity the company either. In the abstract, I can just buy all the liabilities of the company in question and adjust the leverage of my portfolio by mixing in risk-free assets or borrowing myself. > If nobody wants your equity then you don't have a lot of room to adjust the ratio. If literally nobody wants your equity, its price would be 0. I assume you are talking about your equity having a low price instead? You can still take on debt to buy back shares (or pay a dividend) to lower your outstanding equity. Or you can issue shares to pay back debt. Or you can use retain profits to pay back debt, lower both the absolute amount of equity and debt. All of these moves are possible when your share price is low.

jkhdigital 4y ago
Sure. There is indeed quite a bit of flexibility in adjusting the leverage of a business, assuming that it is still a going concern. So was your comment about "high equity" just about leverage? Like, everyone worries about high leverage but no one seems to care about low leverage (which could be an inefficient capital allocation)? It's just an unorthodox way to put it, that phrase
- eru 4y ago
  People seem to be worried about the total amount of debt. At most they compare debt to GDP. You almost never hear these panic pieces talk about debt vs equity. Btw, if people are worried about debt, the first thing we should do is put equity financing on the same footing as debt financing. As it stands, companies largely service their debt with pre-tax money but pay for their cost of equity with post-tax money.